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Duration of sovereign debt renegotiation

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  • Bai, Yan
  • Zhang, Jing

Abstract

In the period since 1990, sovereign debt renegotiations take an average of five years for bank loans but only one year for bonds. We provide an explanation for this finding by highlighting one key difference between bank loans and bonds: bank loans are rarely traded, while bonds are heavily traded on the secondary market. In our theory, the secondary market plays a crucial information revelation role in shortening renegotiations. Consider a dynamic bargaining game with incomplete information between a government and creditors. The creditors' reservation value is private information, and the government knows only its distribution. Delays in reaching agreements arise in equilibrium because the government uses costly delays to screen the creditors' reservation value. When the creditors trade on the secondary market, the market price conveys information about their reservation value, which lessens the information friction and reduces the renegotiation duration. We find that the secondary market tends to increase the renegotiation payoff of the government but decrease that of the creditors while increasing the total payoff. We then embed these renegotiation outcomes in a simple sovereign debt model to analyze the ex ante welfare implications. The secondary market has the potential to increase the government ex ante welfare when the information friction is severe.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of International Economics.

Volume (Year): 86 (2012)
Issue (Month): 2 ()
Pages: 252-268

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Handle: RePEc:eee:inecon:v:86:y:2012:i:2:p:252-268

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Web page: http://www.elsevier.com/locate/inca/505552

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Keywords: Sovereign debt restructuring; Secondary debt markets; Dynamic bargaining; Incomplete information;

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Citations

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Cited by:
  1. Sayantan Ghosal & Marcus Miller & Kannika Thampanishvong, 2010. "Delay and Haircuts in Sovereign Debt: Recovery and Sustainability," CDMA Working Paper Series 201015, Centre for Dynamic Macroeconomic Analysis.
  2. Fernando Broner & Aitor Erce & Alberto Martin & Jaume Ventura, 2013. "Sovereign debt markets in turbulent times: Creditor discrimination and crowding-out effects," Economics Working Papers 1372, Department of Economics and Business, Universitat Pompeu Fabra, revised Nov 2013.
  3. Mark Aguiar & Manuel Amador, 2013. "Sovereign Debt: A Review," NBER Working Papers 19388, National Bureau of Economic Research, Inc.
  4. Adelino, Manuel & Gerardi, Kristopher & Willen, Paul S., 2013. "Why don't Lenders renegotiate more home mortgages? Redefaults, self-cures and securitization," Journal of Monetary Economics, Elsevier, vol. 60(7), pages 835-853.
  5. Grey Gordon & Pablo Guerrón-Quintana, 2013. "Dynamics of investment, debt, and default," Working Papers 13-18, Federal Reserve Bank of Philadelphia.
  6. Fernando Broner & Aitor Erce & Alberto Martin & Jaume Ventura, 2013. "Sovereign Debt Markets in Turbulent Times: Creditor Discrimination and Crowding-Out," IMF Working Papers 13/270, International Monetary Fund.

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